Greenspan’s re-wording of his commitment to “keep interest rates low
for a considerable period” to being “patient” before raising
interest rates is a distinction without a difference. After all, how long
is a “considerable” period? And, how can “patience” be
quantified? Despite the market’s apparent certainty in deciphering
these comments, who’s to say that “patient” doesn’t imply an even
longer period than “considerable!” All of these word games are
an effort on the part of the Fed to have its cake and eat it too. The Fed
wants to appear vigilant with respect to rate hikes, but does not want to
damage the ‘bubble economy” by actually raising rates.

If the Fed did not voluntarily raise rates in 2003, it certainly will not
do so in 2004, as GDP growth is likely to be much slower, and job creation
even more anemic. Judging by the recent string of weaker than expected economic
data, most recently December’s durable goods and forth quarter GDP,
the “best” days for “growth” and “job creation” are
behind us. There will be no new tax cuts in 2004 (especially in light of
this week’s upward revision in the Federal budget deficit), and not as many
homeowners will participate in this years re-fi boom, replacing fixed rate
mortgages with ARM’s.

The Fed further implies that future rate hikes are on hold until adequate
job growth returns. As I have written many times in the past, since the U.S.
bubble economy is driven by consumer spending on imports, most of the job
creation is happening in Asia. This phony recovery will never produce any
meaningful job growth, and the Fed knows it. However, as long as the Fed
keeps interest rates low and asset prices rising, consumers can replaces
wages with credit. I just learned of a recently-unemployed acquaintance who
was able to minimize the financial burden of unemployment by reducing his
mortgage payment by two thirds. How did he accomplish this? He refinanced
his 30 year fixed rate mortgage with a no-doc, three year, interest only
ARM!

The Fed well knows that the proliferation of adjustable rate, interest only
and zero or low down payment mortgages, and the housing and consumer spending
bubbles such excesses support, make any meaningful rate hikes impossible.
In this respect, the Fed is all bark and no bite….not that they are
really barking anyway! The Fed’s only role is to con American’s creditors
with word games so they will continue lending. So far it is working, and
judging by the temporary bounce in the dollar, quite a few people were fooled.

Continuing on the subject of fools, the Bank of Japan purchased over 75
billion dollars though exchange rate intervention during the month of January.
To put that sum in perspective, it exceeds the entire foreign exchange reserves
of the United States! Per capita, Japan now has over 20 times the foreign
exchange reserves as the United States. Can there be any doubt which country
is the world’s richest? The Fed’s word games are designed to encourage further
Japanese intervention, as well as persuade currency speculators and foreign
creditors not to sell dollars. However, as Lincoln may have said, the Fed
may be able to fool some of the people all of the time (this would include
most economists and Wall Street analysts), and all of the people some of
the time, it can’t fool all of the people all of the time!

The Bank of Japan’s efforts to artificially prop up the dollar are
politically, rather than economically, motivated. As the yen gains in value,
the yen value of Japanese-held U.S. dollar investments fall. As a result,
Japanese investors have fewer yen, and consequently feel poorer (The reality
is that as the yen gains greater purchasing power, even though they have
fewer yen, the Japanese are actually better off). Similarly, when the dollar
declines, Japanese companies are upset to see the yen value of their U.S.
earnings decline. However, since the yen that they now earn have greater
value, they are again better off.

The opposite is true in America: a weakening dollar means that the dollar
value of American-owned foreign assets rises, resulting in American investors
having more dollars. They feel richer, despite actually being poorer. Yes,
they have more dollars, but those dollars are less valuable. Similarly, U.S.
corporations see the U.S. dollar value of their foreign earnings increase.
Again, though they earn more dollars, the dollars they earn have less value,
so the real value of export earnings declines.

This con will not work for ever. The Japanese, and even the Americans, will
eventually get wise. The most important thing is not to be stuck holding
any dollars when the music finally stops.